Understanding the Great Depression and the Modern Business Cycle, Trade War

Introduction Part I: Government Economic Policy 1) The Crash of '29	xiii 1 3
§1) Two Days of Panic - October 28 and 29, 1929 §2) Boom - January through August 1929	4 7
Had income inequality created more savings in 1929 than the investment and financial markets could circulate? What were the reasons for the summer stock market boom?	9 15
§3) Bust - September 1929	17
Why did the stock market turn down after Sept. 19, 1929?	24
§4) Heading for the Abyss - October 1 to October 27, 1929 §5) WHY?	27 36
Why did the stock market crash on Monday and Tuesday, October 28 and 29, 1929?	36
§6) The Bottom of the Crash of '29	40

Part II: Government Monetary Policy VI) The Sterilization of Gold (1919-1928)	209 211
§1) The Will-o-the-Wisp of Administered Stability §2) The Federal Reserve System §3) Managing "Money" Under the Gold Standard	211 220 223
What were the limits of Federal Reserve System authority and capabilities prior to the New Deal banking holiday?	228
§4) The International Gold Standard §5) Original Objectives of Monetary Policy §6) The 1920-1921 Depression	229 230 233
Is permanent acceptance of inflation the best monetary response for wartime and other crisis financing problems?	238
§7) Sterilization of Gold - 1922-1928	241
What was the Federal Reserve System's role in creating the conditions that led to the Great Depression?	245
§8) The Last Stand of the Gold Standard - 1925-1928	248
What role did the overvalued pound play in the economic and financial turmoil?	250

IX) The Heedless Young Giant (1933-1939)	310
§1) The New Deal	311
How effective were the New Deal command economy experiments? How successful was monetary inflation in stimulating economic recovery? Did fixed exchange rates hinder economic recovery during the Great Depression?	313 315 321
§2) Restoration of the Banks	324
What were the successes and failures of New Deal banking reforms?	326
§3) Federal Reserve Monetary Policy - 1933	333
Could continuous aggressive monetary inflation have brought the Great Depression to an end before WW-II?	335
§4) Dollar Devaluation - 1933-1934	336
How much of a "success" was the devaluation program?	337
§5) The 1937 Relapse	341
Could continuation of the New Deal administration's aggressive monetary expansion have avoided the 1937 relapse and maintained the economic growth rates achieved prior to 1937?	350
§6) Destruction of Gold Standard Monetary Systems - 1933-1936 §7) Destruction of Silver Standard Monetary Systems - 1933-1936 §8) The End of the Great Depression - 1939-1941 Did monetary expansion and budget deficits bring about the end of the Great Depression?	353 357 360 363

Why do we need another book about the Great Depression?

Understanding the business cycle is vital for government economic policy and for investors, businessmen and academics, and is of broad interest to others. Confusion about the causes of the Great Depression clouds understanding about the business cycle to this day.

This book is a fact book and analysis that explains the dysfunctional Great Depression economy of the 1930s, and the essential differences between the business cycles during the deflationary 1920s and during the inflationary post WW-II period extending to the present day.

There is a vast array of books and studies about the Great Depression, yet every recession is accompanied by ridiculous warnings about a return of the Great Depression or the development of a depression of equivalent severity. Yet no sooner does recovery get underway than it is accompanied by equally ridiculous assurances about the stability of prosperity. That something is missing from the pertinent literature is indicated by such misunderstandings. What could it be?

Much of what is missing is provided in this book. Part I, “Government Economic Policy,” provides all the pertinent facts about the economic collapse into the Great Depression, much of which is missing from existing literature.

Government economic policy officials and almost all economists are routinely caught by surprise by the onset of economic contractions. They are equally as inaccurate in evaluating severity and duration once a contraction is recognized. Investors and businessmen who depend on them are routinely caught by surprise – frequently at great cost. This ignorance was most evident during the Great Depression. As we saw during the early stages of the Credit Crunch recession in 2008, it is still distressingly evident. Something must be wrong with theoretical understanding of the business cycle in general and the Great Depression in particular.

The weaknesses in current macroeconomic theory that encumber economic understanding. are revealed in Part II, "Government Monetary Policy" of this book.

The weaknesses in particular for the boom and bust failures of the 21st century interest rate suppression economic policy are explained in Part III, “The Business Cycle in an Age of Monetary Inflation,” along with what you need to know to evaluate the modern business cycle in general for yourself.

Clear answers to the question of why the stock market boomed prior to September, 1929 and Crashed on Monday and Tuesday, October 28 and 29, 1929, are in fact provided in the financial news for that period and especially for the month of October, 1929. The reasons why the economy failed to recover at various times during the subsequent decade – why this depression became the Great Depression – similarly are made clear by a simple chronological presentation of the facts reported in the financial news. This may all be beyond the limited understanding of modern economists, but no active investor could miss it, especially when it is presented in rapid sequence, like a moving picture, rather than as a day-to-day series of still pictures, as it would have been experienced. This is the primary reason why Part I, “Government Economic Policy,” of this book includes chronological accounts of the facts – all the facts that an active investor would have had to deal with at that time – and then adds much that has subsequently been revealed.

This approach not surprisingly includes a host of facts that perversely refuse to conform to ideological explanations or even to the most authoritative of current theoretical explanations.

The Great Depression is generally dated from the massive Crash of stock market values on Monday and Tuesday, October 28 and 29, 1929. Of course, in the nature of such economic events, even the immediate reasons for the Crash predate the event by some months. The deepest, most fundamental causes of the Great Depression, however, run back to the Great War – World War I. The war had transformed the United States government from a minor player to an influence of giant proportions. Like most overgrown adolescents, the U.S. became a giant suddenly and unexpectedly.

Like many adolescents, it had no idea of the responsibilities of its new status. Indeed, it was blatantly determined not to permit itself to be constrained by international considerations. It moved about the world stage as it had as a minor economic power, in heedless disregard of the impacts of its actions. By closing off access to its markets, it made it impossible for the European Allies to earn the dollars needed to service their vast WW-I dollar debts or for Germany to fulfill its vast reparations obligations.¹

In the economic distortions remaining from the Great War, in the vengeful Treaty of Versailles, in the war debts and in the trade war levels of tariffs, we find the interactive fundamental causes of the Great Depression.

Note that, although each of these factors was tremendously burdensome in its own right, no one of them would have been sufficient to cause a Great Depression.
Note further that these are all the results of policies of governments. They are not functions of economic markets. Indeed, they are all powerful constraints on normal market mechanisms. Needless to say, this view is very unpopular with protectionists of both the right and the left and those who hold Keynesian, monetarist and other left wing views.

However, the Crash is still a reasonable dividing line as the moment when investors and businessmen in vast numbers began shifting from optimism to pessimism – from ambition to caution – from greed to fear – with corresponding immediate impacts throughout the economy. Thus, this provides a second reason why it is useful to explain these events in terms of what a businessman or an active experienced investor would have known at various moments – and what he would probably not have known or might have known but not appreciated.

Throughout the book, until we shift in Part II, “Government Monetary Policy,” to the role first of the Federal Reserve System and then the New Deal, the facts that an active investor would have had to deal with on a day-to-day basis are emphasized. These facts are provided by the contemporary issues of the N.Y. Times, made available in its invaluable microfilm archive.²

The new Federal Reserve System was a major player in these events. However, the responsible officials were still unsure of themselves. They didn’t fully understand the capabilities of their monetary policy tools or fully appreciate the impacts of their decisions – so it is reasonable to assume that most investors would have also lacked such insights. The facts about monetary policy from 1920 to 1939 and insights into the personal views and disputes of the cognizant officials are provided by Milton Friedman and Anna J. Schwartz, “A Monetary History of the U.S. (1867-1960)”³ (hereinafter cited as “Friedman/Schwartz, ‘Monetary History’”) and Allan H. Meltzer, “A History of the Federal Reserve, vol. 1 (1913-1951)”⁴ (hereinafter cited as “Meltzer, ‘History of Federal Reserve, vol. 1’”). Friedman/Schwartz provide broader coverage of monetary history, while Meltzer provides deeper coverage focused on the Federal Reserve drawn from personal papers of monetary officials and Federal Reserve sources some of which were not available to Friedman/Schwartz.

Based on this material, this book provides an analysis of many of the questions that have arisen about the Great Depression, including:

Was the Great Depression caused by a surplus of savings in the “mature” economic systems of the Western world?⁵ Keynesians and many egalitarians base their economic theories on the notion that, in a mature economy with unequal incomes and a substantial accumulation of productive capital goods, savings will become too great for all of it to be profitably invested, thus resulting in the removal of vital purchasing power from the economy.⁶
Were psychological phenomena to blame for the stock market Crash in 1929 and the failure of the economy to recover thereafter?⁷ This view is favored by those who disparage the securities markets and view them as casinos that are subject to waves of irrational exuberance followed by irrational panic and pessimism.⁸
Why did the spring 1930 business and stock market rally fail?⁹ The facts clearly implicate international factors that refute those who present the first two years of the Great Depression as primarily a domestic phenomenon.¹⁰ Although controversy over war debts and other international debts and trade war protectionism was raging around him, Keynes in “The General Theory of Employment, Interest, and Money” (hereinafter, Keynes, "The General Theory") offers no analysis of the obvious roles of such government policies in the Great Depression.¹¹
Were the vast financial losses of the stock market Crash of October 1929 among the primary causes of the Great Depression? This theory enjoyed widespread popular belief, but is also clearly refuted by the facts and actually finds little authoritative support any longer.¹²
What were the impacts of the vast financial burdens assumed by the belligerents as a result of The Great War?¹³ This begins consideration of the role of government policies in the vast tragedy and undermines anti-capitalist ideological myths. Wars and war debts are features of government policy, not capitalist markets.
What were the impacts of the trade war levels of protectionist tariffs and other restrictive trade policies that were being persistently increased during the 1920s and 1930s? This begins the consideration in particular of the role of the U.S. Government – our “heedless giant” - in the vast tragedy, and similarly undermines anti-capitalist ideological myths. Tariffs and other restrictive trade policies are government policies that constrain markets. This question persistently arises throughout Part I: “Government Economic Policy.” It remains a vital question because, as explained in Part III, “The Business Cycle in an Age of Monetary Inflation,” the U.S. government remains in many ways a heedless giant trampling on the economy.
What was the role of the young Federal Reserve System in these events? Both Friedman/Schwartz and Meltzer assert that the Great Depression could have been avoided or greatly mitigated and shortened if the Federal Reserve had been more skillful and aggressive in its manipulation of the money supply – in its “monetary policy.”¹⁴ This is a vital question because of the influence of “monetarist” theories on monetary policy and reliance on government “stimulatory” programs to combat recessions. Part II, “Government Monetary Policy,” of this book is primarily concerned with an evaluation of the concepts of these authoritative authors as they apply to the Great Depression. The facts demonstrate that these monetarist concepts are basically correct but nevertheless inaccurate in important ways. The inaccuracies in these concepts explain, among other things, the inevitable boom and bust nature of economic interest rate suppression policy during the first decades of the 21^st century.¹⁵
What was the impact of the New Deal administration’s efforts to inflate its way out of the Great Depression?¹⁶ Now in an era of chronic inflation, government persists in attempting to employ monetary inflation to deal with the problems of inflation – an impossible task.
What was the impact of the industrial policy – the administered alternatives to market mechanisms – attempted during the New Deal? What were the impacts of New Deal regulatory initiatives?¹⁷ The successes and failures of New Deal policy provide timeless lessons.
What was the role of fixed exchange rates and the gold standard in the onset, spread and duration of the Great Depression?¹⁸ Of course, the gold standard was an important factor, but its responsibility for the tragedy has been overstated and distorted. Monetarist scholarship cherry picks the facts, grossly narrows its analytical scope, and disregards the far more important factors associated with the failure of the gold standard. Monetarist scholars generally disregard the extent to which it was the U.S. government that failed the gold standard.¹⁹
To what extent was the Great Depression the result of market failure requiring corrective government action? To what extent was it an example of colossal stupidity on the part of various governments, including the U.S. Government, and thus a warning concerning administered government interventions in market mechanisms? Ultimately, this is the most fundamental question posed by the Great Depression and the most important lesson it has to teach.

An objective examination of the facts provides numerous lessons about the Great Depression in particular and the business cycle in general. Some of these lessons are universal and applicable even today and will remain applicable into the indefinite future. There is much that can help investors and businessmen understand and navigate periods of economic turmoil.

The eternal temptations of easy credit played a prominent role. In September 1930, the N.Y. Times remarked that: “The new inventions in the way of manufacturing credit are seen to have been merely a novel way of repeating the very old practices of abuse of credit.”²⁰

This could have as easily been written concerning the first decade of the twenty first century and every period of economic recession in between. It will undoubtedly be pertinent indefinitely into the future. When the houses of cards erected during a period of prosperity, easy money and low lending standards collapse, is the appropriate remedy an even further lowering of lending standards and further encouragement of debt financing?

The lessons from the Great Depression include a number of pertinent similarities, as well as equally important differences, between then and now and future periods. These lessons explain the author’s five-decade record of accurate published economic forecasts beginning in 1967 with his prescient book, Dollar Devaluation."²¹. They are an important factor in explaining the character of the modern business cycle and the inevitable failure of modern economic policy. Rather than market failure, it is once again a failure of government interventions in market mechanisms – industrial policy initiatives and the wanton disabling of essential market disciplinary mechanisms – that explain the extraordinary nature of the boom and bust business cycle since of turn of this century.²²

But first, the many myths and half-truths that serve to cloud understanding must be cleared away. The basic truth is that the Great Depression is far different from the way it has been presented by various ideologues and political interest groups and in the bulk of the vast literature on the subject by economists and historians. It cannot possibly be understood as merely a contraction of demand. It is a story of shame for both Republicans and Democrats – and for generations of economists who considered ideological considerations and/or political interests more important than the truth.

See Ch. VI, §1, “The Will-o-the-Wisp of Administered Stability,” below.
Cites to the New York Times are by date, page and column in the microfilm edition. CAUTION: The microfilm edition produced at different dates sometimes reflects different editions for the date cited. Reference to a different edition for the date cited may be necessary to find the material cited.
Princeton U. Press (1963, printed 1993)
U. Chicago Press (2003)
See, Ch. II, §4, “Why?” below.
See, Ch. I §2, “Boom,” below
See, Ch. II, §4, “Why?” below.
John M. Keynes, “The General Theory of Employment, Interest, and Money,” pp. 335-344 (Encyclopaedia Britannica, Inc., Great Books, 8^th printing, 2003) (hereinafter, Keynes, “The General Theory.”).
See, Ch. II, §4, “Why?” below.
See, i.e., Galbraith, “Journey Through Economic Time,” pp. 71-82 (Houghton Mifflin, Boston 1994); Kennedy, “Freedom From Fear,” p. 69 (Oxford U. Press, 1999, a volume of the Oxford History of the United States that despite numerous serious flaws nevertheless was awarded a Pulitzer Prize.)
See, Dan Blatt, "Understanding the Economic Basics: Market Mechanisms and Administered Alternatives," (2014), section on Keynes, "The General Theory."
See, Ch. II, §4, “Why?” below.
Keynes, “The Economic Consequences of the Peace,” (Harcourt, Brace and Howe, N.Y. 1920); Margaret MacMillan, “Paris 1919,” Random House, N.Y. 2002.
Meltzer, “History of the Federal Reserve,” vol. 1, pp. 359-362, 391-199; Friedman/Schwartz, “Monetary History,” pp. 400-413
See, Part III, Ch. XI, §1, "Understanding Periods of Monetary Inflation," below, on the disabling of market disciplinary mechanisms and the inevitable failure of the Federal Reserve System's interest rate suppression policy.
See, Chapter IX, §1, “The New Deal,” and §4, “Dollar Devaluation,” below.
See Chapter IX, §1, “The New Deal,” below.
See, Ch. IX, §1, "The New Deal," at segment on fixed exchange rates and the gold standard, below.
See, Ch. VI, "The Sterilization of Gold," and Ch. IX, §6, "Destruction of Gold Standard Monetary Systems," below. See, also, Ben Bernanke, "Nonmonetary Effects of the Financial Crisis in the Propagation of the Great Depression," American Economic Review, 73, pp.257–276, June 1983; FRB, Speech by Ben Bernanke, "Money, Gold, and the Great Depression," 3/2/2004; Scott Sumner, "The Midas Paradox" (2015); Barry Eichengreen, "Golden Fetters: The Gold Standard and the Great Depression, 1919-1939." (1995).
9/15/30, p. 26, col. 2.
See, Dan Blatt, "Dollar Devaluation," (1967). Blatt is currently the publisher of Futurecasts online magazine at www.futurecasts.com. His published economic forecasting record can be accessed through the "About the publisher" link on the magazine’s "Homepage."
See, Part III, Ch. XI, §1, "Understanding Periods of Monetary Inflation," below, on the disabling of market disciplinary mechanisms and the inevitable failure of the Federal Reserve System’s interest rate suppression policy.

II) The 1930 Spring Business Revival	46
§1) Hopes for the New Year - December 1929 §2) Rebound from the Crash of '29 - Spring, 1930 §3) Collapse of Commodity Prices - First Half 1930 §4) WHY?	46 49 59 64
Why did the spring 1930 business and market rally fail? Did excess savings play any role in the initiation of the Great Depression? Did the stock market Crash cause the Great Depression? Was the stock market acting irrationally during the 1929-1930 fiscal year?	64 65 65 66 66
§5) The Trade War - First Half 1930	67
What was the role of the WW-I debts and the trade war in the catastrophe of the Great Depression?	73

V) Collapse of Domestic Finance (1932-1933)	146
§1) What was to Blame?	147
What are the most fundamental causes of the Depression?	147
§2) The Stock Market Bottom - First Half 1932 §3) Collapse of WW-I Financial Obligations - Summer 1932 §4) Collapse of Governments (I) - End 1931-Summer 1932 §5) Summer 1932 Agricultural Boom	158 176 179 181
What were the predominant forces behind the spectacular stock market and economic surge of the summer of 1932?	188
§6) Economic Collapse §7) The Collapse of Governments (II) §8) The Banking Collapse	192 195 205

VII) Federal Reserve Monetary Policy (1926-1933)	253
§1) Boom - 1926-1929 §2) Bust - End 1929	253 268
What was the Federal Reserve System's Role in the stock market Crash of 1929?	269
§3) Rebound - Beginning 1930	272
Could aggressive expansion of the money base have brought recovery in 1930 or substantially mitigated the downturn?	274
§4) Financial Disintegration - 1930-1933	275
What role did the spring 1932 $1 billion open market purchase program play in the sharp 1932 summer market upsurge?	294
§5) The Collapse of the Federal Reserve System - Winter 1932-1933	298

Part III: The Business Cycle in an Age of Monetary Inflation	371
XI) Because Men Are Not Angels!	373
§1) Understanding Periods of Monetary Inflation §2) Lessons from the Great Depression §3) Fundamental Causes §4) The Monetary Inflation Business Cycle §5) The Limits of Government Economic Policy	374 380 384 396 399
INDEX	409